Dive Brief:

• J. Crew on Monday said in an earnings call that it had reached an agreement to spin off its Madewell denim brand and take it public some time in the first quarter of next year.

• The announcement came as the apparel retailer also reported a 1% third quarter revenue rise to $625.6 million, with J. Crew sales falling 4% to $415.8 million and Madewell sales rising 13% to $151.6 million, according to a company press release. Digital sales drove more than half of that, executives said on the call.

• Comparable sales rose 3% overall, were flat at J. Crew and rose 10% at Madewell. Net loss in the quarter widened to $19.9 million from $5.7 million last year, attributable, in part, to transaction costs and non-cash impairment charges. The company also noted that net earnings from the year-ago period "reflects the impact of the benefit related to the lease termination payment." Gross margin rose year over year to 40.7%, driven by 210 basis point margin expansion (all from J. Crew as Madewell margins decreased) and a 30 basis point decrease in buying and occupancy costs as a percentage of revenues.

Dive Insight:

J. Crew has been crippled by debt that remains, as it was a year ago, at $1.9 billion, CFO Vincent Zanna noted on Monday. That's set to be cleared up at last if the spinoff and IPO of Madewell goes through as planned.

After some signs that lenders wouldn't agree to the arrangement, they have now given it the green light, Zanna and Mike Nicholson, the company's president, chief operating officer and interim CEO, said during a call on Monday. The company and its lenders have agreed to terms that have also been approved by a special committee of its board, paving the way for the creation of two separately managed companies that will each enjoy "sustainable capital structures" and allowing a valuation of Madewell "that is appropriate for its profitability and growth profile," Nicholson said.

What's "appropriate" may be left to interpretation, and Madewell may not be the juggernaut that the company and its lenders hope it to be: Moody's Investors Service in September questioned the company's $1.9 billion to $2.9 billion valuation of it, saying it's likely closer to $1.2 billion to $1.9 billion.​

The plan will also "generate substantial proceeds" to the benefit of J. Crew, deleveraging its balance sheet so that it can "return ... to profitable growth over time," Nicholson said Monday. And he sought to paint a picture of the namesake brand as one on the mend from past fashion missteps, saying that much of its assortment, in both men's and women's, resonated with customers in the third quarter. J. Crew's year-old loyalty program, which applies to the flagship and the off-price J. Crew Factory unit, is also gaining, he said, with 4 million active members who are spending meaningfully more than non-loyalty customers.

But that brand continues to attract sales with major discounts; its Cyber Monday deals ranged from 50% to 70% off, according to emails sent to customers. Rewards members enjoyed steep price cuts ahead of Black Friday, with 50% off full price and 60% off sale items, compared to 40% last year, according to a report from RetailMeNot emailed to Retail Dive.

Margin improvements have accrued from stringent cost cuts, Moody's noted in September, and executives on Monday said those would continue. The quarter saw adjusted EBITDA growth of nearly 50%, which Nicholson touted as "our strongest third quarter performance in the last five years," reflecting "encouraging momentum at the J.Crew brand fueled by strong gross margin performance, continued growth at Madewell and the early benefits of our multi-year cost optimization program announced in September."

The brand, like Gap Inc.'s own struggling namesake, is pulling away from brick and mortar in favor of e-commerce, on track to open one J. Crew store and shutter 20, and open 10 Madewell stores this year, Zanna said. 

That could be a mistake, because adding stores is unlikely to spur Madewell's growth the way executives assume it will, according to Lee Peterson, executive vice president of thought leadership and marketing at WD Partners. As of Monday, the company operates 191 J.Crew stores, 138 Madewell stores and 172 factory stores, according to its third quarter earnings release.

"Madewell already has 130 stores, there's not going to be growth," Peterson told Retail Dive in a recent interview. "They said something like, 'We're going to have 500 stores.' Where?! You are not! If you get to 150 stores, I would not advise to go over that. And you should really think about your strategy at 75 because even 100 stores is a lot of stores now. You're going to start to really push it by going over 100."